ILU – Iluka Resources Limited

Iluka Resources Limited (ASX:ILU) is involved in the exploration, mining, processing and sale of mineral sands such as zircon and titanium dioxide (rutile and synthetic rutile).

Zircon and Titanium Dioxide are used in a growing number of applications such as paints, paper, plastics, ceramics (tiles), fibre optics, automotive parts and medical applications.

Iluka has mining and processing operations in the Eucla Basin, South Australia; Perth Basin, Western Australia; Murray Basin, Victoria; and also in the state of Virginia in the United States.

Iluka promotes that it acts with a commitment to the delivery of customer value, through:
• quality products that meet customer expectations;
• investment in high grade, long life reserves; and
• ensure the customer offer reflects relative value in use.

In 2012, Iluka had about 1,100 direct employees and a further 1,500 contractors.
Does this business have a sustainable competitive advantage?
The company is the major producer of zircon globally and the largest producer of the high-grade titanium dioxide products of rutile and synthetic rutile. This dominant production position gives Iluka a degree of flexibility (price inelasticity) to control both their production volume and product sold to meet the market demand.

The company also generates income from a royalty associated with tenements from one of BHP Billiton’s operations known as Mining Area C province in Western Australia.

Iluka is in a good space for many years to come if you believe that:
1. The urbanisation of the global population will continue; and
2. The collective aspirational behavior of human beings around the globe to continually want better for themselves and their children leading to increased consumption in the long run.

Urbanisation and this aspirational behavior will see more people around the world building homes, buying appliances, travelling overseas, driving cars and buying consumer electronics for decades to come. All products manufactured with the input of Iluka’s raw materials.

What are the risks facing this business?
The main risk being a cyclical business is the interim outlook for global growth slowing meaning the possibility of a reduction in production and sale of Iluka’s mineral sands. This risk was endured by the company during the majority of 2012 calendar year.

Another risk is the entrance of new mineral sand miners and competition adding to global supply. However, with sentiment toward mining globally fairly negative at present, it will take some bravado for this to happen any time soon.

Is it run by able and trustworthy management?
The CEO, David Robb in my view looking from the outside in is as trustworthy as they come. At least twice in 2012, he came out and presented to the market the difficulties being faced by the business. He highlighted steps taken to scale back production to preserve prices for Iluka’s products. The share price was unceremoniously smashed both times and investors new exactly where they stood (in quick sand, not mineral sand for a while).

As at Iluka’s year end in December 2012, the company had a relatively strong balance sheet with a net debt-to-equity level of 6% and the company managed to produce positive cash flow not quite to the levels of reported net profit.

Is it trading at a bargain price?
On a Buffett-style return-on-equity model, the company is not very good value as seen here.

Company

Code

Rank

2012 Actual Valuation

Today’s Share Price

Margin of Safety

2013 Forecast Valuation

2014 Forecast Valuation

Iluka Resources Limited

ILU

Gold 2

$7.45

$11.40

-128%

$4.99

$6.98

*Please note that forecast estimates of intrinsic value are subject to change on a daily/weekly basis.

However, rather than bury my head in the mineral sand and watch this train leave the station without me. I looked at my hybrid valuation incorporating techniques learnt from reading Sir John Templeton methods. My Templeton-style valuation paints a much rosier picture for FY13 and FY14 as seen in this table.

Company

Code

Rank

2012 Actual Valuation

Today’s Share Price

Margin of Safety

2013 Forecast Valuation

2014 Forecast Valuation

Iluka Resources Limited

ILU

Gold 2

$7.56

$11.40

-11%

$10.30

$18.17

*Please note that forecast estimates of intrinsic value are subject to change on a daily/weekly basis.

For the Trendy types….I noticed recently that the share price is presently higher than its 20, 50 and 200 day moving averages which is good news for those trend followers out there.

Summary
In summary, Iluka is a strong business in a cyclical market. It is the major global producer of its mineral sand materials which allow it to maintain a degree of price inelasticity in its market place. The company has capable and trustworthy management and it has a well placed balance sheet. The company has faced a tough year and appears to be on a path to growing from a low base.
This article is published by Dean Mico.

Disclosure: Dean Mico owns shares in Iluka.

The information provided in this article is intended for general use only. The article is intended to provide educational information only. Please be aware that investing involves the risk of capital loss. The information presented does not take into account the investment objectives, financial situation and advisory needs of any particular person, nor does the information provided constitute investment advice. Under no circumstances should investments be based solely on the information herein.